10/14/2008 @ 12:01AM

A Voice From The Friedmanite Wilderness

That we are in the midst of one of the most serious financial crises in history is clear. The general causes of this economic maelstrom are now pretty well known: expansion of credit via low-interest rates by the Fed; subsidization and grotesque encouragement of inappropriate housing loans (courtesy primarily of Messrs. Dodd, Frank and Schumer and the FMs); a bad accounting call on mark-to-market by the SEC; and finally exacerbation and opaqueness engendered by financial instruments too complex to evaluate, decipher or untangle.

Some might add government actions and regulations past and present, such as bans on short-sales or threats to close markets, that have prevented the private sector from making fast and efficient corrections. But that idea is not part of the consensus that has emerged.

The great credit crisis of 2008 and its aftermath come as a result of a “perfect storm” of almost unrelated events. Leftist attitudes were reaching a crescendo among the ideological classes, spurred on by such disparate and often logically irrelevant notions as racism, feminism, environmentalism, global warming, a health care crisis, an unpopular war and high energy costs. The political part of the mix included a bizarre set of primary elections and unlikely final candidates, one of whom is perhaps the most liberal figure in American politics. Globalization and increasing international trade stirred up the nativists and protectionists more than usual. The inevitable market-distorting results of interest rates kept too low showed up alongside a poor man’s affirmative action lending program, all of which created a bubble that had to burst eventually. And new and not well-understood financial devices and organizations were creating public confusion and mistrust.

It was unlikely that all these influences would come to fruition at the same time, but they did. That is the nature of random events. The unlikely happens, and, almost by definition, no one is prepared for it when it does.

In spite of government efforts to reinflate the economy, we will now suffer a deep and painful recession/depression or stagflation, after which things will never be the same. That much of New Deal history can be confidently predicted to repeat itself.

The political direction of the country is now determined for a long time to come, and it is inevitably leftward. Politicians would never resist a popular but massive demand for more government regulation (even the few with enough brainpower to recognize what is going on). The business community has never been a strong supporter of free market capitalism, and it certainly cannot be counted on to change its stance this time around. The media, the various leftist trend-setting elites and university faculties have been waiting a long time for an opportunity just like this, and we can be sure that they won’t squander it. The shrillness of their attacks on free markets will reach new heights of righteous indignation and assumed moral and intellectual superiority.

No policy issue based on private property, low taxes, small government or free trade will escape the charge that any unregulated free market will lead to disastrous excesses justas happened with the great financial crisis of 2008. This will be true for such soon to be rebuffed ideas as tuition vouchers for private schools, private health care, lower estate taxes, deregulation in its many forms, reduced use of eminent domain, tort liability restraint and free trade.

We can anticipate a new reign of mercantilism, as the protectionists among us wield this strong new weapon against globalization and open markets. And all of this is true in large degree regardless of who wins the forthcoming election.

If Sarbanes-Oxley was any indication of the kind of legislation that results from crisis, then we can be sure that even more ham-handed regulation of all kinds will be the main product of the next Congress. Henry Waxman’s grandstanding this past week about bankers’ greed has been merely the warm-up for what is to follow.

Bankers eager for federal help now will find themselves regulated not far short of total federal control of their business behavior. Banks won’t be permanently nationalized, but what we will get will differ from that result semantically more than factually. Derivatives, for all their promise of alleviating panics and distributing risk, will not now be allowed to evolve into the brave new system once predicted for them. Accounting rules will become even more convoluted as we continue to ask for more information out of double-entry bookkeeping than it can ever deliver.

Still, there is a glimmer of hope left to those who detest this seemingly inexorable slide into socialism or its first cousin, the super-regulatory state. That glimmer comes from the ghosts of Adam Smith, Milton Friedman and Friedrich Hayek, who still haunt the halls of the left. And in spite of all the claims made that this debacle marks the demise of free market philosophy, it won’t go away so easily.

This time around, unlike during the New Deal, there is a substantial intellectual establishment to ride herd on leftist proclivities. There are numerous free market blog sites, which, for instance, can be properly credited with forcing modification of the recent short-sale ban. There are countless free market think tanks in Washington and all around the country exerting considerable influence on government policies. Libertarians are a small but growing political factor, and there are even a few university economics departments and law schools where sanity prevails or is at least occasionally evident.

Like it or not, these few intellectual bastions of freedom philosophy will be about the only thing that keeps these ideals alive in the coming years. But we should never underestimate the power of good ideas. Like the bad ones we are about to witness in large numbers, they may just have to bide their time until a new crisis causes the fickle and uninformed public to demand a new direction.

If these ideas are maintained in the inventory of ultimate possibilities, then there is always the chance of their public rediscovery and rebirth. It has happened with liberty before. And one thing is absolutely certain: Sooner or later the new era will end in another crisis. Perhaps then the defenders of freedom will be able to claim the moral high ground.

Henry G. Manne is the dean emeritus of the George Mason University School of Law.